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Inland Revenue released guidance on tax treatment of resource consents

Tax Alert - August 2018

By Hadleigh Brock and Sofwa Khan

As noted in our July Tax Alert, Inland Revenue have released a draft interpretation statement: Income Tax – treatment of costs of resource consents, outlining Inland Revenue’s view on when taxpayers can deduct expenditure incurred in obtaining resource consents, and on what basis.

This is welcomed guidance on an issue for which many taxpayers have sought input from Inland Revenue. It helpfully continues the recent trend of providing a number of examples and two flow charts (at pages 24 and 25), which summarise the analysis that Inland Revenue considers should be undertaken to determine the tax treatment of resource consent expenditure. You can read the full statement here.

Overview of tax treatment

When a taxpayer incurs capital expenditure the Income Tax Act 2007 (Act) generally allows a depreciation deduction for costs incurred in obtaining a resource consent where either:

  1. it is a consent granted under the Resource Management Act 1991 (RMA) to do something that would contravene sections 12 – 15B of the RMA; or
  2. the consent comprises “a right to use land”.

The interpretation statement discusses these two consents within the broad  framework of the following categories: 

  1. “environmental” consents (being consents granted under sections 12 – 15 of the RMA, ie item 1 above); and
  2. “land” consents (consents granted under sections 9 and 11 of the RMA – a subset of which may be a right to use land as discussed further below).

Inland Revenue acknowledges that environmental consents should be items of depreciable intangible property (as they meet the above requirements), so that expenditure which forms part of the ‘cost’ of the consent can be depreciated over its fixed term.

However, in respect of land consents, Inland Revenue’s view is that as these are generally of unlimited duration, they will not usually be depreciable property.  Therefore, to extent that they do not comprise a “right to use land” (discussed below), Inland Revenue’s view is that expenditure on land consents can only be depreciated to the extent that the expenditure can be capitalised into the cost of another item of depreciable property.  No depreciation deduction is available for any expenditure capitalised into the cost of non-depreciable property, ie:

  • Land; or
  • Buildings (with a useful life of more than 50 years). 

The issue of what constitutes a “right to use land” has not always been clear. The statement does explain Inland Revenue’s view – but unfortunately their definition is very narrow. The Commissioner considers a right to use land will only arise in exceptional circumstances because the consent will have to be time limited and be a right to use land within schedule 14 of the Act. 

The statement refers to a number of cases that support Inland Revenue’s view that a right to use land:

  • Must be a right to use exercised independently from the rights of ownership. Inland Revenue’s view is that fee simple owners will not usually have a separate right to use; and
  • In the case of a resource consent, must create a right to use land rather than merely removing a statutory fetter.  

What type of expenditure is included in the ‘cost’ of a resource consent?

Inland Revenue acknowledges in the statement that whether particular expenditure is part of the cost of a resource consent depends on the relevant facts for each taxpayer, and the nature of the consent which is being sought.

Key takeaways on Inland Revenue’s view of the cost of a resource consent are:

  1. For expenditure to be part of the cost, it must be directly attributable to bringing the asset to the location and the condition necessary for it to be capable of operating.  Therefore, Inland Revenue’s view is that the cost is effectively restricted to the initial cost of an item of depreciable property.
  2. Not all expenditure associated with a resource consent will form part of its cost base.  For example, expenditure incurred on meeting conditions of the consent after the cost of the consent has been fixed, is not a cost of the consent. 
  3. Expenditure incurred on an application (including administrative fees under section 36 of the RMA) to obtain the resource consent will be part of the cost of a consent.  Expenditure on legal and hearing costs is also likely to be a cost of the consent. 
  4. Expenditure incurred in compiling information, reports and strategies for the purposes of the application will also generally be part of the cost of the resource consent.  This could include expenditure on resource monitoring, environmental investigations, engineering reports and the development of mitigation strategies for adverse environmental effects.
  5. On larger projects, consultation will often be a necessary step in the process of applying for resource consent.  Expenditure on public awareness campaigns, public meetings, mail drops, media releases and consultation with affected persons including iwi, may all be part of the cost of the resource consent. 
  6. If a resource consent is subject to a condition that must be fulfilled before the consent commences then this expenditure, although incurred after the consent has been granted, may be a cost of getting the resource consent ready to use.  In these circumstances, the expenditure should be added to the cost base of the resource consent.    

The statement helpfully includes a list of expenditure which the Commissioner considers to be examples of expenditure that may be incurred in the resource consent process.

The statement also makes reference to accounting standards (NZ IAS 16 and NZ IAS 38) and suggests that they have relevance where ‘cost’ is unclear as they support the proposition that the cost must be directly attributable to bringing the asset to the location and condition necessary for it to be capable of operating. 

What type of expenditure is excluded from ‘cost’ (and which may be immediately deductible…or not)?

There are some types of expenditure which Inland Revenue doesn’t think is part of the a cost of a resource consent, namely:

  • Expenditure that is revenue in nature: This is unlikely to have material benefit as the guidance states that applying the principles in the Supreme Court decision in Trustpower Limited v CIR [2016] NZSC 91, the Commissioner considers that resource consents will generally be capital in nature because resource consents will usually relate to the business structure and provide an enduring advantage.
  • Expenditure that constitutes “feasibility expenditure” under the principles in Inland Revenue’s interpretation statement IS 17/01: “Income tax – deductibility of feasibility expenditure”: The guidance states that based on the principles established in Trustpower there is limited scope for feasibility expenditure in the context of applying for a resource consent, on the basis that the expenditure will often be directed to a specific capital asset or towards making tangible progress on a specific capital asset – so again, unlikely to be of any practical benefit under Inland Revenue’s interpretation of that case.
  • Expenditure otherwise deductible under a specific provision: The guidance refers to section DB 19 of the Act which relates to certain resource consents that are not obtained or used, and section DB 46 which relates to pollution control.

That old chestnut…

Those familiar with the Trustpower case (in particular the Court of Appeal judgement) will recall the (unusual) proposition put forward by the Court that the nexus between incurring expenditure and deriving income was not established.

That principle then weaved its way into IS 17/01: “Income tax – deductibility of feasibility expenditure” and has, unhelpfully, found its way into this statement.

Inland Revenue states that for resource consent expenditure to be either deductible or depreciable, a sufficient relationship or nexus must exist between the expenditure and the taxpayer’s business, or income-earning activity - and that for some taxpayers, resource consent expenditure will not be deductible or depreciable because it will have been incurred preliminary to, or preparatory to, the commencement of a business or income-earning activity. 

Taxpayers will therefore need to tread very carefully to ensure the general permission is satisfied prior to incurring expenditure to ensure ‘black hole’ expenditure does not arise.

Next steps

Comments on the draft statement closed on 3 August 2018. It will be interesting to see what changes (if any) are made a result of submissions. Please contact your usual Deloitte advisor if you have any questions.

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